Here’s where you can go to beat U.S. dividends

Commentary: These international options can boost income

J.J.Zhang

J.J. Zhang is chemical engineer and amateur financial adviser who was the winner in MarketWatch’s second annual World’s Next Great Investing Columnist contest. He runs the blog MarketTech Reports.

It’s no secret the goal of the Fed’s near-zero interest-rate policy is to drive the yield and appeal of savings accounts, bonds, money markets and other similar assets to an all-time low in an effort to stimulate growth.

Many banks today offer yields of less than 0.2%, far less than the 1.7% inflation, according to the 2012 CPI. With bond funds yielding in the 2% to 3% range, most investors are struggling to find good alternatives for stable income-based returns.

While there are several possibilities such as real estate investment trusts and preferred shares, one option is high-yielding dividend ETFs, particularly international ETFs. Though dividend ETFs are not the same asset type as bonds and are not meant as a perfect replacement, safe high-yielding dividend stocks do provide a regular and reliable source of income that, unlike many bonds, have yields above the inflation level.

Changes to yields over the last few years have changed the balance in the case of stocks versus bonds. The table below summarizes the yield difference between the iShares Aggregate Bond ETF
AGG, +0.39%
and the SPDR S&P 500 ETF
SPY, -0.15%
if purchased at the beginning of the year.

Pre-2009, bonds yielded a consistent dividend 2-2.5x higher than the S&P 500. In 2012, that yield ratio dropped to just barely 1:1, severely decreasing the attractiveness of bonds. A similar trend is seen for the iShares Dow Jones Select Dividend ETF
DVY, -0.03%
, the largest US dividend ETF by asset, and a benchmark for high-yielding U.S. stocks.

While SPY and DVY yielded relatively attractive dividends of 2.4% and 3.9% respectively in 2012, they are significantly lower than their international dividend counterparts, which yielded 3.5% to 7.1%. Also of note, DVY’s impressive 3.9% yield is not the U.S. dividend norm; other ETFs such as the Vanguard Dividend Appreciation ETF
VIG, -0.01%
and the SPDR S&P Dividend ETF
SDY, +0.08%
(SDY) only yielded 2.5% and 3.5% respectively.

With the huge popularity of ETFs in recent years, there is an abundant list of dividend ETFs to choose from. While it is possible to buy the underlying companies, ETFs are attractive due to their inherent diversification which is a plus for income investors.

Another option is buying specific country ETFs which is often overlooked even though many have great yields. The main difference among most dividend ETFs are capitalization, regional diversity, sector diversity and value/growth style.

In general, almost all the attractive ETFs are mid-large-giant cap, valued, and almost all in the industrial, financial, energy, utilities and communications sectors. Regional diversity is a key differentiator as many are heavily focused in Europe and some are particularly exposed to high-risk countries such as Spain.

The website ETFdb.com is a good source of information for these ETFs.

Popular choices

The two most popular international dividend ETFs are the SPDR S&P International Dividend ETF
DWX, -0.21%
and the iShares Dow Jones International Select Dividend Index
IDV, +0.09%
at $1.2 billion and $1.6 billion under management and a 2012 yield of 6.3% and 5.3% respectively.

DWX looks for non-U.S. stocks offering high dividend yields, with 123 holdings but with 71% allocation to Europe (18% for Spain alone); it’s heavily exposed to EU issues. Its major sectors are communications, utilities, and financials.

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